NEW YORK (Reuters) - With 34 deaths and 474 cases of fungal meningitis linked to tainted steroids from a Massachusetts compounding pharmacy, blame has fallen on everyone from the pharmacy to state and federal regulators. Now a new potential culprit has emerged: Medicare, which reimburses for almost all compounded drugs.

“Medicare’s reimbursement policy is certainly relevant in the government’s role in supporting purchases” of compounded drugs, Senator Richard Blumenthal told Reuters, referring to the customized medications meant to be prepared for an individual based on doctor directions.

Medicare is the federal health insurance program for the elderly and disabled. Because it is such a large player in healthcare policy, its coverage decisions have an outsized impact on the market.

As long as a physician has prescribed a compounded drug, Medicare as well as some private insurers cover it even if the Food and Drug Administration has approved a version of the drug from a pharmaceutical manufacturer.

In a letter sent on Monday to U.S. Department of Health and Human Services (HHS) Secretary Kathleen Sebelius, the consumer advocacy organization Public Citizen charged that by paying for compounded drugs Medicare “created an economic environment that allowed large-scale drug production by compounding pharmacies to flourish.”

“Medicare played a role in fostering the widespread use of compounded drugs,” Dr. Michael Carome, deputy director of Public Citizen’s Health Research Group, said.

In reply, an HHS spokesman told Reuters that if the FDA finds that a company is producing compounded drugs in violation of the law, “Medicare will not reimburse for drugs produced in that facility.” But because the FDA’s authority over compounding pharmacies is severely limited, “we urge Congress to strengthen FDA’s authority to ensure these kinds of outbreaks do not happen again.”

In a letter to Medicare on Monday, Senators Debbie Stabenow, Al Franken, Dianne Feinstein and Blumenthal - all Democrats - also raised concerns about how compounded drugs are “reimbursed at the state and federal level.”

The senators cited a section of Medicare’s policy manual which explains how the program can deny payment for compounded drugs. In addition, they asked how Medicare works with the FDA “to determine which companies have received violations for mass compounding of drugs.”

Medicare pays for compounded medications mostly under what is called Part B, which covers drugs that patients cannot administer themselves, such as spinal injections and intravenous cancer drugs. “These medications are vital and often life-sustaining and should be covered in full,” said David Ball, a spokesman for the International Academy of Compounding Pharmacists.

Also weighing in on compounding on Monday, the Senate Committee on Health, Education, Labor, and Pensions asked all 50 state boards of pharmacy - which, rather than federal regulators, oversee compounding pharmacies - for information on “actions you have taken to address this meningitis outbreak.”

Specifically, the committee asked the boards whether they had reported problems with drugs from New England Compounding Center, the company that produced the tainted steroids, to the FDA, and whether they require compounding pharmacies to report whether they produce large volumes of drugs.

Although traditional pharmacy compounding is small-scale, producing one prescription for one specific patient at a time, the company that produced the tainted steroids in the meningitis outbreak manufactured thousands of doses for hundreds of patients at once, documents show.

OUT OF BUSINESS

The suspicion that Medicare’s payment policy encourages large-scale compounding has arisen in part because in the single instance when Medicare denied payment for an entire class of compounded drugs - respiratory medications used in special inhalers called nebulizers - the decision drove compounders out of that business.

At the time, Medicare said that because compounded drugs are not tested for safety and effectiveness, they have “the potential of putting a patient at increased risk of injury, illness, or death.”

The nebulizer-drugs decision came in 2007, after patient advocates led by Allergy & Asthma Network Mothers of Asthmatics argued to Medicare that the compounded nebulizer drugs had contamination and potency problems, said Sandra Fusco Walker, who led that effort.

That coverage decision “is absolutely relevant” to the question of Medicare’s support for compounding pharmacies, Blumenthal said, “because it reflects an awareness of this issue. Whether that should be a precedent for denying coverage of all such (compounded) drugs is a separate question.”

The Center for Medicare and Medicaid Services (CMS), which is part of HHS and runs the Medicare, regularly decides whether to cover diagnostic tests, medications, surgical procedures and other medical treatments. It bases those decisions on whether the intervention is “reasonable and necessary.” For drugs, that almost always means that the medication has received approval from the FDA.

In a section of the manual related to compounded drugs, CMS says that compounded drugs that have not received FDA approval - which describes essentially all compounded drugs - are excluded from Medicare coverage.

“If the FDA has not approved the manufacturing and processing procedures used by these (compounding) facilities, the FDA has no assurance that the drugs these companies are producing are safe and effective,” the manual adds.

But the same section also says that payment for such a drug does not stop unless CMS notifies the local carriers that it contracts with to process Medicare claims “that it is appropriate to do so.”

“Clearly, if compounded drugs weren’t covered to the extent they are, there wouldn’t be an economic environment that allows large-scale compounding to continue,” said Carome.